How are settlements made in dealer-to-dealer trades of U.S. government securities?

Settlements in dealer-to-dealer trades of U.S. government securities are uniquely handled through the use of Federal funds via the Federal Reserve's Wire System. This method ensures that transactions are conducted safely and efficiently between financial institutions. Federal funds refer to the excess reserves that banks maintain at the Federal Reserve, which allows for immediate and secure settlement.

This system is critical because it facilitates the prompt transfer of funds between banks, as transactions in government securities typically require a reliable and swift settlement process. The use of the Federal Reserve's Wire System enables instant payment and minimizes credit risk, promoting liquidity in the market for government securities.

Other methods, such as cash or checks, are less efficient and do not provide the same level of immediacy or security for such high-stakes transactions. Similarly, exchanging common stock or bonds at market value is not applicable in this context, as government securities are uniquely settled in Federal funds.